Why market experts say it’s too early to buy falling stocks

Stock markets around the world tumbled on Monday after investors spent the weekend worried about U.S. jobs data that showed higher-than-expected unemployment. Investors aren’t yet welcoming the moment with much enthusiasm amid the bargain prices.

The S&P 500’s 3% decline marked its worst day since September 2022 and extended a sharp three-day slide, but the index’s 8.5% decline from its peak three weeks ago erased gains from the past three months. Stocks are still up 8.7% for the year. That means most investors’ brokerage accounts aren’t hurting too much yet, but it also means the risks that market experts have been worrying about for much of this year’s bull run are still rife.

“The market is starting to realize that there’s a three-sided problem on Wall Street,” says Jim Stack, founder and president of Whitefish, Montana’s InvesTech Research. “The problem is that it’s overvalued, overinvested and overly complacent.”

Stack points to valuation metrics like market capitalization-to-GDP and price-to-earnings multiples that remain higher than historical averages, households already have a higher-than-usual percentage of their assets invested in stocks, and wavering confidence in the Federal Reserve’s ability to continue to steer the economy toward a soft landing.

Those subsurface issues set the stage for Friday morning’s jobs report from the Bureau of Labor Statistics, which pegged the unemployment rate at 4.3%. Economists had been forecasting a lower rate of 4.1%, a number up from 3.7% year to date. That sparked the so-called “Sahm Rule,” which states that if the three-month average unemployment rate is at least 0.5 percentage point above the 12-month low in that statistic, it usually means a recession.

On Sunday evening, serious trouble hit overseas markets in the U.S. Japan’s Nikkei 225 fell 12% on Monday, and the S&P 500 opened down more than 4% on Monday, although the decline did not turn into a more serious Black Monday.

“Because it happened late in the week, investors have the weekend to get pumped up and place sell orders over the weekend, which is why the market crashed when it did today,” says Sam Stovall, chief investment strategist at CFRA. “But it’s just another reminder of the old adage, never sell on a Monday.”

Stovall isn’t panicking and cites other encouraging indicators, such as Monday morning’s report that service-sector economic activity rose in July, but he still says he’s “not bold enough to want to buy today,” viewing it more as a time to sit tight and wait and see what the future brings.

“We’d probably have to see the S&P between 5,100 and 4,900 before I really feel like we’ve done enough penance and reset the dials,” he says. The index ended the day at 5,170, and a drop to 5,000 would mean a modest decline of another 3%. “But I don’t think we’re heading into a bear market. I think this market will be a good buy soon.”

Stack also keeps 42% of his model fund portfolio, which is outlined in his monthly newsletter, in short-term Treasurys or money market funds, and says cash “isn’t burning a hole in our pockets.” Indeed, Warren Buffett is also sitting on the sidelines with Berkshire Hathaway’s record $277 billion in cash, revealing in his quarterly earnings report on Saturday that he sold nearly half of his Apple shares in the second quarter and reduced his stake in Bank of America.

Marshfield Associates, which has $7.1 billion in assets under management and has beaten the market with its Marshfield Concentrated Opportunity Fund, which has returned 16.6% annually since its inception in December 2015, also has its guns blazing. The fund is picky with its 16-stock portfolio and currently has 25% of its assets in cash, which it still needs to allocate. That cash position, as well as its eschewing of frothy technology stocks in favor of less volatile industries like insurance, has helped the fund hold up well over the past month, down just 2.7% from its highs.

“The cash position is not there as a cushion, it’s there to buy something one day — we just haven’t gotten there yet,” says Chris Niemczewski, Marshfield’s managing director. “For us, it just seems cheaper than it was before, but it’s not cheap.”

Investors in large-cap tech stocks have had a more painful few weeks than others, although most started with larger stacks. Apple opened the session down 10% but quickly recovered some of its losses to end the day down 5%, and its “Magnificent Seven” peers like Nvidia, Microsoft and Amazon traded similarly. These stocks’ strong years were key catalysts for the market’s record highs through July, and despite their declines over the past three weeks, they have continued to outperform over the longer term. Nvidia, for example, has more than doubled this year, even after a 25% decline since July 10.

Investors who are taking advantage of interest rates above 5% on money market accounts likely won’t be able to maintain that virtually risk-free yield for much longer. The Fed is widely expected to start cutting rates at its September meeting, ending a two-year cycle of tightening rates to tame inflation, and could even consider an emergency rate cut if conditions worsen in August. The anticipated easing is part of what has lifted stocks this year, and lower rates on cash accounts could move more capital into stocks, but the Fed has a delicate task ahead of it to lower rates without causing more panic among investors.

“A soft landing is not certain, and if it is a hard landing, it may be harder than expected,” says Stack, who remains pessimistic about the rest of the year. “I think there is a loosening of complacency and confidence that will continue to drive the market lower, perhaps much lower than investors think.”